The Rise of Alternate Lending for Middle Market Private Equity Transactions

(Originally published on Finance & Commerce), Written by Leah M. Berend, CPA; Edited by Clarissa Schmeig

The U.S. middle market is the segment that drives U.S. employment, growth, and competitiveness; and adequately addressing the borrowing needs of these businesses is a complex task. Yet, given the middle market’s consistently outsized contributions to local and national economies, the effort to better support these businesses is more than justified.

For America’s main street businesses, having access to capital means the difference between stocking shelves or shutting down, creating jobs or contributing to layoffs, exploring new technologies and new markets or stunting growth and potential. While commercial banks fill an obvious need for treasury and offer a wide range of services, non-bank lenders can offer various benefits that make them attractive. For example, non-bank lenders often provide more flexible terms than banks and a faster transaction process due to not needing ratings. Non-bank lenders are not subject to the same regulatory restrictions as banks, allowing them to provide more creative financing solutions. Furthermore, non-bank lenders typically have a greater appetite for risk than banks, making them more willing to finance higher-risk investments. Additionally, non-bank entities are generally more agile than commercial banks and are better able to monitor the complete picture of the organizational health versus a snapshot communicated through a third party loan servicer. These closer relationships to Main Street help them better align with the middle market private equity firms involved.

Although private credit deals are generally opaque, (from what can be found from public information in 2022), LBOs were nearly all financed through private credit. Private credit is the only type of financing that appears to have shown growth in 2022 (source LCD News). Many professionals feel that the deal flow into private credit will continue into 2023 and become a larger portion of deals. Moreover, some professionals feel that private credit could triple in the near future, predicting higher rate environments that cause private equity and businesses to utilize credit in a more disciplined way.

For most students, a 90% grade would get them reasonably far. What if a teacher didn’t pass them because they didn’t get 100%? Commercial banks may adopt an all-or-nothing mentality, even when a client can meet 9 out of 10 requirements. The bank cannot change its regulatory underwriting requirements even at an increased interest rate. Risk-averse credit departments make up the decision-making authority for banks and diligenced, sophisticated deals can be missed by these banks. The non-bank lender fills a need because they can adjust interest rates to accommodate the perception of increased risk.

Businesses in turnaround situations often need to look for alternatives to commercial lending. “Non-bank lending can be a good solution for businesses facing financial difficulties. Their flexibility and willingness to take on higher risk allow them to provide much-needed liquidity when traditional lending options are unavailable. As a specialist in turnaround situations, I have seen firsthand the positive impact non-bank lending can have on a struggling business. These lenders offer a unique solution for businesses looking to recover and return on the path to success.” Notes Robert Berdanier of BDO’s Business Restructuring Practice.

“Private equity-backed CFOs would exchange covenant for coupon any day,” says Loren Unterseher, Managing Partners of Oxbow Industries. “The heavy covenant reporting can easily become a burdensome headache for CFO’s and if they could pay a higher interest rate to get rid of the restrictive covenants, they likely would.” It would appear that the market agrees with Mr. Unterseher. In 2022 Q4, leveraged buyouts completed via the private credit sector far exceeded transactions done with syndicated loans. In fact, through December 8, only one LBO loan had emerged via the broadly syndicated loan market in the fourth quarter, versus 46 in the private credit market. According to Pitchbook, not one of the 26 take-privates announced between June and December of 2022 had been funded by banks. Instead, they are relying on private debt funds or all-equity structures.

To summarize, non-banks offer more flexible terms and are not subject to the same regulatory restrictions as banks. Along with that, their tolerance for risk is higher and they provide much-needed liquidity in the market. These benefits make non-bank lending a growing option for private equity firms and middle-market businesses looking for access to capital.

Leah Berend is the Chief Financial and Chief Administrative officer of Oxbow Industries. With over $2.5 billion in corporate financial transactions completed, Oxbow Industries is dedicated to building businesses in partnership with their management teams. Oxbow seeks to invest in leading middle-market companies with outstanding leadership teams and a significant opportunity for equity appreciation. Learn More at